Pareto Analyzes the Distribution of Wealth Summary

  • Last updated on November 10, 2022

Studying economic data at the beginning of the twentieth century, Vilfredo Pareto discovered that 80 percent of the wealth was owned by 20 percent of the people, a finding that later became the basis of Joseph M. Juran’s theory of quality management.

Summary of Event

Vilfredo Pareto was a pioneer in applying mathematical principles to economics, contributing to the development of a general equilibrium theory Equilibrium theory —that is, a theory of how the balance between people’s desires and the obstacles to satisfying them result in economic equilibrium regardless of the social organization of the society. An aspect of this equilibrium theory is the assumption that there is a relative stability in wealth distribution such that about 80 percent of a society’s wealth is concentrated in the hands of 20 percent of its population. This observation, which Pareto noted in his pioneering work Cours d’économie politique (1896-1897; course in political economy), Cours d’économie politique (Pareto)[Cours déconomie politique] implied that far from being random, wealth distribution follows a universal pattern throughout the history of any society. Distribution of wealth Pareto principle Quality management Wealth distribution theory 80-20 law of wealth distribution[eighty twenty law of wealth distribution] [kw]Pareto Analyzes the Distribution of Wealth (1906) [kw]Distribution of Wealth, Pareto Analyzes the (1906) [kw]Wealth, Pareto Analyzes the Distribution of (1906) Distribution of wealth Pareto principle Quality management Wealth distribution theory 80-20 law of wealth distribution[eighty twenty law of wealth distribution] [g]Italy;1906: Pareto Analyzes the Distribution of Wealth[01520] [c]Economics;1906: Pareto Analyzes the Distribution of Wealth[01520] [c]Sociology;1906: Pareto Analyzes the Distribution of Wealth[01520] Pareto, Vilfredo Juran, Joseph M.

Pareto based his theory on data obtained from several European countries and cities, including Britain, Prussia, Saxony, Paris, and several Italian cities. He concluded that the gap between the elites and the masses may be slightly wider or narrower at any given time in any given society, but the structure of inequality is relatively stable, indicating a universal pattern in which a minority of the people own the majority of the wealth. Even if a redistribution of the wealth were to occur through political or economic changes, the equilibrium would inevitably reestablish itself, resulting in the formation of new elites.

Pareto followed up with his most influential work, Manuale d’economia politica (handbook of political economy), Manuale d’economia politica (Pareto)[Manuale deconomia politica] in 1906. Grounding their work in Pareto’s theory of wealth distribution, economists constructed the notion of the Pareto index, which is a measure of the inequality in income and wealth distribution in a given society. The larger the Pareto index, the smaller the proportion of the wealthy to the poor, and as wealth increases in size through economic development in a given society, the index is expected to become larger.

His discovery of the “80-20” law led Pareto to examine the social dynamics between the elites and the masses. This resulted in another influential work, Trattato di sociologia generale (1916), a sociological classic, which was published in English under the title of Mind and Society (1935). Mind and Society (Pareto) Pareto claimed that economics fails to make predictions because people make choices largely on nonrational grounds. His attention to nonrational factors in his study of society increasingly moved his focus, toward the end of his career, from economics to sociology. In the 1930’s, the fascists bestowed honor and praise on Pareto, and they co-opted his ideas on the role of elites in a society to support their ideology.

Joseph M. Juran, a Romanian-born American engineer who began his career in 1924 in the Inspection Department of the Hawthorne Works of the Western Electric Company in Cicero, Illinois, was inspired by Pareto’s 80-20 law of wealth distribution. As an officer responsible for the statistical control of the quality of manufactured products, Juran had an interest in Pareto’s law that did not reside in economics or sociology, but rather in the law’s usefulness for improving product quality. He displayed an uncommon ability for generalization when he made the intellectual leap from Pareto’s law of wealth distribution to the practical issues of improving product quality. In the process, he laid the foundations for the principles and practices of modern quality-improvement programs. Juran is credited with coining the term “Pareto principle” for the 80-20 law. In its universal form, the Pareto principle states that a minority of factors are responsible for the majority of the total effects in any given situation.

As early as 1937, Juran viewed the Pareto principle as the basis for distinguishing the vital few from the trivial or useful many. The principle underpinned his approach to quality and he referred to it in numerous publications, including Quality Control Handbook (1951), Managerial Breakthroughs (1964), and Juran on Planning for Quality (1988). Juran advised managers to create “Pareto charts” to distinguish the vital few from the trivial or useful many. In such a chart, groups of data are arranged in a table or a diagram so that they are ranked according to the magnitude of each factor’s contribution, expressed as a percentage, to the total, cumulative effect.

The Pareto principle can be applied to the quality process in a variety of ways. For instance, it helps managers to classify a company’s customers into the vital few and the trivial (or useful) many so that they can respond according to the customers’ importance to the company. It serves as a tool for manufacturers, who can use it to tabulate and identify their major competitors as well as key product features in order to improve quality and increase market share. Organizations interested in reducing the costs of goods and services may use the Pareto principle to focus on the few vital factors that account for the majority of the costs, and institutions seeking to reduce human errors may apply the principle to isolate the major error types in order to target them for action. In the interest of improving operational efficiency, organizations may also use the principle to distinguish steps that are vital from those that are trivial.

Significance

Vilfredo Pareto’s mathematical approach to economics contributed much to the development of econometrics, and his theory of wealth distribution is the basis for the Pareto index, a vital tool for comparing the economic development of societies. Juran’s rediscovery and expansion of the 80-20 rule, which he called the Pareto principle, spawned a vast amount of literature on management and leadership. The principle helps decision makers to prioritize and focus on what is vital in order to achieve more with less.

Juran is often cited as the father of quality management programs. Going beyond other innovators, he shifted the focus of quality from statistical control to the entire production process, including its human dimensions, and thus founded the total quality movement. It is interesting to note, however, that Juran tested his ideas in Japan by training Japanese engineers and managers in the practice of quality management, thus contributing to Japan’s industrial competitiveness after World War II. The quality movement took root in the United States only belatedly, in part as a response to Japan’s competitiveness.

The Pareto principle is not without its problems. Critics have pointed out, for instance, that the principle may help describe the present, but it cannot be used to predict the future. It is nearly impossible to tell in advance which 20 percent are the vital few because today’s vital few may turn out to be tomorrow’s trivial many, and vice versa. Blind use of the Pareto principle can also raise troubling questions concerning priorities other than those involving business or financial success. For instance, is it socially responsible for a corporation to neglect its smaller customers only to enhance its bottom line? Can a hospital choose to reduce the services it provides to the 20 percent of patients who cannot pay and yet consume the majority of its resources? What should a school do with the 20 percent of students who have learning problems and take up to 80 percent of the teachers’ time in the classroom? Should a pastor neglect 80 percent of the parishioners who generate only 20 percent of the church’s income? If the Pareto principle were the only criterion for decision making, many people might never receive the services necessary to maintain a minimum quality of life; such application of the principle would have the unintended consequence of espousing a form of elitism in the name of quality.

It has also been noted that if an organization were to push the Pareto principle to its logical limits, it could not ultimately survive, because the 80-20 rule would still apply to the remaining vital few, and so on, ad infinitum, until very few, if any, customers are left. An organization can avoid such a dilemma only by recognizing that what it selects as the vital few must depend also on the core values of the organization—a point that Juran would readily acknowledge. Distribution of wealth Pareto principle Quality management Wealth distribution theory 80-20 law of wealth distribution[eighty twenty law of wealth distribution]

Further Reading
  • citation-type="booksimple"

    xlink:type="simple">Juran, Joseph M. Architect of Quality: The Autobiography of Dr. Joseph M. Juran. New York: McGraw-Hill, 2004. Describes Juran’s life as a journey that began in Romania in poverty and continued through the hardships of growing up in Minnesota and establishing his career as an engineer, finally achieving fame and corporate success. Moving and enlightening.
  • citation-type="booksimple"

    xlink:type="simple">_______. Juran on Planning for Quality. New York: Free Press, 1988. Systematic introduction to quality management summarizes Juran’s “quality trilogy”: quality planning, quality control, and quality improvement.
  • citation-type="booksimple"

    xlink:type="simple">Juran, Joseph M., and A. Blanton Godfrey. Juran’s Quality Handbook. 5th ed. New York: McGraw-Hill, 1999. Describes in great detail the quality control process, benchmarking, total quality management, training for quality, and other quality concepts as they apply to a variety of industries in the United States and elsewhere.
  • citation-type="booksimple"

    xlink:type="simple">Pareto, Vilfredo. The Rise and Fall of the Elites: An Application of Theoretical Sociology. New Brunswick, N.J.: Transaction, 1991. Classic work describes the rise and fall of the elites and serves as an introduction to Pareto’s sociological ideas.
  • citation-type="booksimple"

    xlink:type="simple">Sanders, Robert. “The Pareto Principle: Its Use and Abuse.” Journal of Services Marketing 1, no. 2 (Fall, 1987): 37-40. Brief and accessible explanation of the absurdities that can result when the 80-20 rule is pushed to its ultimate logical limits.

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